A financial institution has the following market value balance sheet structure: Assets Liabilities and Equity Cash $ 2,700 Certificate of deposit $ 11,700 Bond 10,000 Equity 1,000 Total assets $ 12,700 Total liabilities and equity $ 12,700

a. The bond has a 10-year maturity, a fixed-rate coupon of 9 percent paid at the end of each year, and a par value of $10,000. The certificate of deposit has a 1-year maturity and a 5 percent fixed rate of interest. The FI expects no additional asset growth. What will be the net interest income (NII) at the end of the first year? (Note: Net interest income equals interest income minus interest expense.)

b. If at the end of year 1 market interest rates have increased 100 basis points (1 percent), what will be the net interest income for the second year? Is the change in NII caused by reinvestment risk or refinancing risk?